a strong u.s. dollar weighs on the world
a strong u.s. dollar weighs on the world
A Strong U.S. Dollar Weighs on the World
This year, every major currency has fallen against the U.S. dollar, a significant shift with serious global economic implications.
Approximately two-thirds of the 150 currencies tracked by Bloomberg have weakened against the dollar. This strength is largely due to changing expectations about when and how much the Federal Reserve might reduce its benchmark interest rate, which is at a 20-year high.
High interest rates from the Fed,
aimed at combating persistent inflation, make American assets more attractive, drawing in international investors who need dollars to purchase them. This influx of money into the U.S. is impacting policymakers and people worldwide, from Brussels to Beijing, and Toronto to Tokyo.
The dollar index,
which measures the dollar’s strength against a basket of major currencies, is at levels not seen since the early 2000s. The yen is at a 34-year low against the dollar, while the euro and Canadian dollar are also struggling. Despite efforts to stabilize it, the Chinese yuan has shown significant weakness.
“It has never been truer that the Fed is the world’s central bank,” said Jesse Rogers, an economist at Moody’s Analytics. A strong dollar has rapid and widespread effects.
The dollar is involved in nearly 90 percent of all foreign exchange transactions. Its strength intensifies inflation abroad, as countries need more of their own currency to buy dollar-denominated goods, including U.S. imports and globally traded commodities like oil. Countries with dollar-denominated debt also face higher interest payments.
However,
some foreign businesses benefit. A strong dollar helps exporters selling to the U.S., as Americans can afford more foreign goods and services, including cheaper vacations. Conversely, American companies selling abroad face disadvantages, as their goods become more expensive, potentially widening the U.S. trade deficit at a time when President Biden is promoting domestic industry. The net effect depends on why U.S. interest rates remain high.
Earlier this year,
strong U.S. growth, which can boost the global economy, started to outweigh concerns over persistent inflation. However, if U.S. rates stay high due to sticky inflation despite slowing growth, the impact could be more harmful, according to Kamakshya Trivedi, an analyst at Goldman Sachs.
In such a scenario,
policymakers face a dilemma: support their domestic economies by cutting rates or support their currencies by keeping rates high. “We are at the cusp of that,” Trivedi said.
The strong dollar’s effects are particularly pronounced in Asia. Recently, finance ministers from Japan, South Korea, and the U.S. met in Washington, pledging to “consult closely on foreign exchange market developments.” They expressed “serious concerns” over the sharp depreciation of the yen and won.
The Korean won is at its weakest since 2022,
with the central bank governor calling currency market moves “excessive.” The yen briefly fell past 160 yen to the dollar for the first time since 1990. Unlike the Fed, Japan’s central bank only began raising interest rates this year after decades of low growth.
Japanese officials must balance raising rates without stifling growth,
resulting in a weakened currency as rates remain near zero. A continually weakening yen risks undermining investor and consumer confidence in the Japanese economy, potentially driving money abroad.
China faces a similar risk. Its economy, hit by a real estate crisis and weak domestic spending, has allowed the yuan to weaken under pressure from the strong dollar. “A weaker yuan is not a sign of strength,” said Brad Setser, a senior fellow at the Council on Foreign Relations. “It will lead to questions about whether China’s economy is as strong as people thought.”
In Europe,
the European Central Bank (ECB) may cut rates at its next meeting, despite improving inflation in the eurozone. However, some fear that lowering rates before the Fed would further weaken the euro. Gabriel Makhlouf, governor of Ireland’s central bank and an ECB governing council member, noted the importance of U.S. developments in their policy decisions.
Policymakers in South Korea and Thailand face similar challenges,
considering rate cuts. In contrast, Indonesia’s central bank recently raised rates to support its depreciating currency, illustrating the varied global responses to the strong dollar. Countries like Egypt, Lebanon, and Nigeria, facing significant domestic challenges, feel additional pressure from the stronger dollar.
